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Zambia needs IMF and Chinese loans reprofiling to avert debt crisis

THE government needs a combination of an IMF-funded programme, a people’s Bank of China credit line, and a re-profiling of Chinese loans to avert a debt crisis, says Renaissance Capital.

Meanwhile, Renaissance Capital says the Zambian government will not default on the Eurobond coupons this year, especially as half the $237 million of coupons due in 2019 have been paid ($118 million is left to pay).

It, however, notes that recent events do increase the probability of the country defaulting in 2020 and in subsequent years.

Renaissance Capital is an emerging and frontier markets focused investment bank founded in Russia in 1995.

It is headquartered in Moscow, Russia.

The firm has offices also in Cape Town, Johannesburg, Nairobi, London, Lagos, Cairo, Nicosia (Cyprus), Dubai, and New York.

In a report titled ‘Zambia Eurobonds: divorce and domestic pressure’, Renaissance Capital says it remains “market-weight” on Zambia’s Eurobonds.

“We do not think the government will default on the Eurobond coupons in 2019, especially as half the $237 million of coupons due in 2019 have been paid ($118 million is left to pay) and FX [foreign exchange] reserves were reported at $1.4bn at the end of March by the Bank of Zambia (BoZ),” Renaissance Capital.

“However, recent events do increase the probability of default in 2020 and in subsequent years, in our view. We think the government needs a combination of an IMF-funded programme, a People’s Bank of China credit line, and a re-profiling of Chinese loans to avert a debt crisis.”

It states that its staff travelled to Nigeria, Ivory Coast and Ghana last week but: “our providing of feedback from west African policy-makers, was stampeded by questions about Zambia.”

“Yields on the 22s and 24s climbed closer to 20 per cent as four issues dominated the news flow,” it states.

The report also highlights on Edgar Lungu’s threat to divorce mining operations.

“The President announced he was seeking a divorce from some mining companies and starting with Konkola Copper Mines (KCM). There are two elements to this: First, what is divorce. Second, what does starting with imply?” the report states.

“Divorce: KCM was the jewel in Zambia’s copper crown and the largest producing mine before First Quantum Minerals (FQM) arrived and became the largest producer. The recently increased mining taxes and royalties have put further pressure on the company and led to threats of closing shafts.”

The report adds that 13,000 jobs are at stake if KCM closed and that such job losses on the Copperbelt would make the government: “very unpopular.”

“While the media on this issue might have dented investor sentiment further, we think new private ownership of KCM might be positive for investment, production and revenues from the mine,” it states.

“What is next? The President argued he was starting with KCM. The situation is fluid and very uncertain at present, but we think that ‘divorce proceedings’ will stop at KCM and not include Glencore’s Mopani in 2019. We also do not see a threat from widespread nationalisation in the mining sector over the next five years. We do, however, think that there is scope for a change of private ownership at some of the mines.”

On planned power outages, Renaissance Capital says in its November 2018 comment, it warned of a 65-70 per cent risk of an El Nino.

It says such a warning turned out to be right and lower rainfall tragically beset Zambia over its 2018-2019 rain and agricultural season.

About climate change, the report says, as humans continue to destroy the planet, variable and extreme weather of this type is forecast to become more common.

“This is a key issue for Zambia given its reliance on hydro-electricity (83 per cent of generation) and rain-fed agriculture,” the report says.

“Power outages to start in June: as Lake Kariba levels are still depleting, having not replenished as is normal between January and June. ZESCO have been meeting stakeholders in Zambia this week to discuss different options on how to allocate reduced electricity supply (mining typically uses 52 per cent and the services sector/ households 34 per cent; the small manufacturing sector uses just three per cent).”

It forecasts that the prospect of reduced electricity supply in 2019 and 2020 is the largest threat to copper production in the concerned years.

“We do not forecast the importation of emergency power in 2019,” it states.

The report says the finance ministry published its 2018 annual economic report on its website.

It adds that there is a lot of interesting data to review, but that the main highlight was how the government signed $2.64 billion of new loans in 2018.

“In April 2018 the finance minister said the government was postponing the contraction of all pipeline external debt until the high risk of debt distress is brought to ‘moderate risk’ level and cancelling of the contracted loans that have not disbursed, in order to reduce the debt service burden,” the report says.

“However, the 2018 report highlights how government did quite the opposite. We have argued it would take rising domestic pressures to shift this government from complacency to urgency. High Eurobond yields, or market pressures, would never be enough in our view. For government to stop signing news loans and cutting ribbons on new infrastructure projects, they would need to feel domestic economic and political pressures.”

The Renaissance Capital notes that the weaker exchange rate, rising inflation (especially food prices), the need for tighter monetary policy, very poor domestic debt auction results, and the 90 per cent increase in external debt service costs this year are each applying pressure on government.

It says such pressures raise the prospect that the leadership decides to act with greater urgency, and increases the chance of the government doing what is required to access external support from the Chinese and IMF.

“We hope the Zambian government does not look too closely at Ghana. Ghana let FX reserves fall to just seven days of cover before the government officially asked the IMF for support in 2014 and that government also went on to also lose Ghana’s 2016 elections,” Renaissance Capital says.

“However, the worry remains that this administration attempts to muddle through until the August 2021 elections. The first large amortisation (the $750 million) takes place 11 months after that election. This is a worry because we do not think the government will make it that far based on our assessment of FX inflows and external debt service needs….”

Meanwhile, the report points out that if Zambia did default, “we estimate a recovery rate of between 60 and 74 cents on the dollar.”

“There have been few recent African sovereign defaults (and almost all African defaults historically have been on loans as opposed to bonds) and we do not consider many of the debt relief packages to constitute a default,” states Renaissance Capital.

“Conclusion: We remain market-weight on the Eurobonds. Based on their pricing in the late 60s (cents on the dollar) and our projections for potential recovery rates if there is a re-structuring.”

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